What If the EURO collapses?

Should the Euro collapse, Europe will find itself at the epicenter of a massive economic earthquake ... one that will shake the markets in virtually every nation on the planet. And no wonder, we're talking about the failure of the world's second-largest currency. Of course, not every currency will fall in value. That would be impossible, because currencies rise and fall in relation to one another. Which is why, with currencies, there's always a way to make money somewhere.

So, should the Euro collapse, how will things play out?

A Euro collapse will initially be bad for China. And that's regardless of whether they continue helping to bail out Europe (questionably currently). While China may have experienced massive economic growth over the past decade, it has also become highly dependent on consumer demand from Euro zone nations. So the initial shakeup will only add to China's already stressed and slowing economy.

Meanwhile, many investors seeking shelter from the Euro's collapse will turn to one of the few safe havens they can find: U.S. Treasuries. However, these investors must first buy U.S. dollars to buy U.S. Treasuries, which of course would mean that, at least initially, they would drive up the price of the dollar.

However, expect these roles to eventually reverse themselves. Because as things play out, China will rebound while the United States stumbles. You see, the financial market impact feeds negatively into the real economy. So despite the initial boost, the surge to U.S. Treasuries will end up hitting U.S. demand hard ... and hitting China's growth.

What about some other currencies?

The collapse of the Euro will trigger a deadly domino effect that is likely to send currency after currency tumbling down. Several will dramatically plummet in value as a result of the European banking crisis. The currencies of emerging markets will be particularly hard hit. These nations typically don't have a capital market to issue bonds, and the Euro zone is their main source of credit and loans.

"Italy is likely already in recession and the downturn in activity across the eurozone has rendered the task of the new Government much more difficult.

Sustaining political and public support for structural reforms and austerity will be challenging in the face of rising unemployment. Convincing investors that the reforms will be effectively implemented and will boost economic growth over the medium term will be equally if not more challenging."

Fitch downgraded Italy to A+ from AA- last month, warning that it would cut the country's rating again if it were shut out of debt markets.

The panic is spreading to the very heart of Europe. Germany attempted to sell 6 billion euros of 10-year bonds today. But get this: Investors were only willing to buy 3.6 billion euros worth. That means Germany missed its target by a whopping 40%!

All pretty hyperbolic stuff which sells lots of newspapers of course - but unless Merkel is playing the best game of Chicken ever seen on the planet its more than a 50% probability isn't that the Euro has had its day in the sun.

Watching the press conference yesterday I was struck by the almost surreal level of calm on display by the 3 participants.

A complete break-up of the euro zone might lead to a 9 percent fall in the bloc's output in the first year and send the notional value of the shared currency plunging to $0.85, Dutch bank ING said on Friday.

ING's base case is that the euro will survive. If it does not, France and Belgium would devalue 15 percent against the new Deutschmark; Ireland and Italy by 25 percent; Portugal and Spain by 50 percent; and Greece by 80 percent, the bank projects.

The 17-member euro zone is already paying a heavy price for the repeated failure of politicians to end uncertainty over the future of the single currency.

Leading economists and former policymakers polled by Reuters last month predicted the euro zone is unlikely to survive its sovereign debt crisis in current form.

"People are coming to terms with the fact that the policy environment is going to remain very austere and the true cost of maintaining monetary union is increasingly becoming apparent. However, exits or a break-up would be costlier still. There isn't really a pleasant outcome from all of this," he said in a telephone interview.

Cliffe acknowledged the difficulties of assessing the impact of a collapse of the euro. ING's report was moving on from 'thinking the unthinkable' to 'quantifying the unquantifiable'.

A similar exercise by UBS in September put the first-year cost of quitting the euro at 40-50 percent of GDP for a weak country and 20-25 percent of GDP for a strong country such as Germany.

ING is less gloomy. Still, in the first year following a break-up, the fall in output would range from 7 percent in Germany to 13 percent in Greece.

For the euro zone as a whole, output in 2016 would still be below 2011 levels.

Flight into the safe haven of the dollar would lead to at least a mild recession in the United States, while Britain's economy would shrink 5 percent because of close trade links.

ING believes adjustment to a new equilibrium would be bumpier for core countries than for peripheral countries because the former are creditors and would be exposed to serious losses, requiring governments to bail out banks and insurers.

Sharply higher inflation if the euro were to disintegrate would ease the debt-to-GDP ratios of weaker countries, but not by much. Italy's debt, for example, would still be at 112 percent of GDP in 2016, from 120 percent now, ING projects.

Germany, by contrast, would witness a sharp rise in its debt burden to more than 100 percent of GDP because of the twin blow of contracting output and deflation. Its debt load would subside to 93 percent of GDP in 2016 on ING's estimates, but that would still be well above the current level of 82 percent.

The Financial Times reported that Standard & Poor's rating agency plans to put Germany, France, the Netherlands, Austria, Finland and Luxembourg on “creditwatch negative,” without saying where it got the information. That designation implies there’s a 50 percent chance of a downgrade within 90 days, the FT said on its website. S&P plans to release a statement later today, the newspaper said. S&P declined to comment, according to the FT.